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What’s it: Duopoly is a market structure in which only two sellers (producers). This is the basic form of oligopoly competition. The two players serve multiple buyers and sell competing goods and services.
In this market, players have a high strategic dependence, especially in making business decisions such as pricing and production.
Competition output depends on a competitive basis in the market. For example, under the Cournot model, a competitive basis is the quantity of output, producing prices and outputs between the monopoly and the perfectly competitive markets. To increase market power and profits, the two players may engage in collusive cooperation.
Examples of a duopoly
Following are duopoly example:
- Indofood (Indomie) with Wings Food (Mie Sedaap) for the instant noodle market in Indonesia. Both of them control almost 90% of the market share.
- Intel and Advanced Micro Devices (AMD) in the global semiconductor chip market. Intel controls a market share of around 66.7%, and AMD controls around 33.2% between the first quarter of 2015 and 2020.
- Airbus and Boeing in the commercial aircraft manufacturing market. Airbus and Boeing respectively control about 45% and 43% of single-aisle passenger aircraft shipments.
- MasterCard and Visa in the international payment service business. Visa holds a 60% share of the credit and debit card market. Meanwhile, Mastercard controls a market share of around 30%.
- Pepsi and Coca Cola in the carbonated drink market. In the United States market, Coca-Cola Company’s market share was 42.7%, and PepsiCo was 30.8% in 2008.
- Android and iOS in the mobile phone operating system. Android controls a market share of around 86.1% and iOS 13.9% for global smartphone shipments in 2019.
In some of the examples above, the competition actually consists of several players. However, I categorize them in a duopoly because two companies stood out and had a significant market share. Besides, smaller players usually target a niche market or serve only the local market.
Duopoly and oligopoly
A duopoly is a specific form of oligopoly. The oligopoly market consists of several players with considerable market power. Barriers to entry are also high so that the threat of new entrants is low. Few companies control a large market share, enabling them to influence market supply. Besides, the source of market power also comes from a differentiation strategy, allowing companies to charge premium prices.
Meanwhile, under duopoly, market power is concentrated between two firms. Both have significant monopoly power and high strategic dependence.
One manufacturer’s strategic decisions have a significant impact on other producers. For this reason, the market is likely to introduce collusive behavior. And when that happens, the two companies act as though they are monopolists.
Duopoly characteristics
- Market consists of two producers. Both producers serve a large number of buyers, so their bargaining power is high.
- Producers have a high strategic dependence. Strategic actions and decisions by one company have a significant impact on the competitor.
- Chances of collusive behavior are high. Since both of them are highly interdependent, they are likely to collude to secure high market profits.
- The level of competition may be fierce. This happens when the two do not collude. Regulators usually keep a close eye on this market to avoid anti-competitive practices. Therefore, the strict supervision of regulators means that the two cannot collude.
- Monopoly power is significant. Apart from controlling the market supply, the two companies may also adopt a differentiation strategy. As long as each adopts a differentiation strategy, each product will have several loyal customers, presenting significant monopoly power.
- Entry barriers are high. It can stem from structural barriers inherent in natural characteristics of markets such as economies of scale. Or, both companies have deliberately built entry barriers such as low-price strategies and brand loyalty.
- Economies of scale are high. Each of the companies enjoyed high sales because the market was split between only two companies.
Duopoly types
The two main models for explaining duopoly markets are:
- Cournot duopoly
- Bertrand duopoly
Cournot duopoly
As the name suggests, this model comes from Antoine Cournot, a French mathematician and philosopher.
Under the Cournot model, quantity determines market competition and, thus, the output of competition. Both firms will produce at a rate that maximizes profits and selects output simultaneously.
Each company produces according to the output of competitors and market supply. Both assume that the competitor’s output does not change. The model also assumes that players do not collude.
When the market reaches equilibrium, each firm has no incentive to change output or prices. The change will not make any company better. Therefore, in the long run, output and prices are stable. The outcome of Cournot competition (output and price) will be between the perfect competition and monopolistic competition equilibrium.
Bertrand duopoly
Joseph Bertrand, a French mathematician and economist, criticized the basis of competition in the Cournot model. According to him, price is a determining factor for competition, not the quantity of output.
Under Bertrand’s model, each company views that consumers will choose the company that provides the best (cheapest) price because the products on the market are identical. So when one company lowers its price, other players will take similar steps to avoid losing market share. A price cut by one company then creates a price war in the market.
The price war continues. While the price is still above the marginal cost, each company will still make a profit, and there is still potential to further cut the price. Thus, the market will reach equilibrium when the two firms’ prices are equal, which is at the marginal cost.
As in the Cournot model, the Bertrand model assumes a homogeneous product. The two companies did not collude.
Implications for competition
In a duopoly market, every firm has a strategic dependence. It affects how individual companies operate, how they produce goods, how to advertise products, and set prices.
Competition outcomes depend on the strategies adopted by each company. Both of them may adopt a pricing strategy like in the Bertrand model. Or, both of them base a competitive strategy based on quantity.
Furthermore, different from the above two models, the firm may take collusive or differentiation steps to generate better profits.
Competition through price
When the two firms compete via price, it can lead to price wars, especially when products are homogeneous. Because of homogeneity, the products of each company substitute each other perfectly. Thus, the consumer’s consideration in buying is a lower price. They have no reason to prefer or be loyal to one product over another.
When one firm lowers its price, it eliminates a competitor’s market share because consumers will switch. Not wanting to lose market share, competitors will also lower prices. Price wars arise, and they continue until prices equal marginal cost, eliminating profit opportunities.
For this reason, both firms feel profitable if they form a silent monopoly (collusion). The two can work together to set a price that will allow them to take half of the market profits. But, indeed, such tactics are tricky and often clash with anti-monopoly regulations.
Competition through quantity
Duopolies tend to function better when the basis of competition is quantity rather than price. Each company shares market share and profit. When it reaches equilibrium, output and prices will stabilize, as in the Cournot model.
The profits of each company will also be high. Both firms can charge a price above the perfectly competitive price (although still under the monopoly market), which is higher than the marginal cost. In other words, both of them have monopoly power.
Competition through quality
Quality is another dimension of competition in a duopoly market. Each company differentiates its offerings to build loyalty.
Differentiation presents an element of monopoly in the market. Each product will have a loyal customer base, increasing the company’s monopoly power.
Take the case of Android and iOS in the smartphone software market. Google launched Android to target the mass market and monopolize this market. Likewise, Apple’s iOS is targeting a more premium market and monopolizing this market.
